The benefits of reinvesting ETF distributions

By Vanguard

ETFs

Many Australian companies have recently announced dividend payouts from their latest earnings.

These dividends will be distributed to shareholders, including those who own exchange-traded funds (ETFs) that invest in these companies.

ETF managers, like Vanguard, collect these dividends and fully pass them on to ETF investors, known as unitholders, as income distributions.

The process works like this: the dividends received by the ETF are pooled together and then distributed to unitholders based on the number of ETF units they own on the ex-entitlement date. This is the date by which you must own the ETF to be eligible for the upcoming distribution. If you buy into the ETF on or after this date, you won’t be eligible to receive the upcoming payment.

Two choices for investors

As an ETF investor, you have two main choices when it comes to these distributions:

Receive the distribution as a cash payment: the distribution is paid directly to your bank account, which you can use as you see fit.
Reinvest the distribution: You use the distribution to buy more units of the same ETF, which can significantly boost your portfolio’s growth over time.

Reinvesting distributions is a powerful strategy because it leverages the principle of compounding. Essentially, it creates a snowball effect. When you reinvest, the additional units you buy generate more distributions, which you can then reinvest to buy even more units. Over time, this cycle can lead to substantial growth.

For example, imagine you own 100 units in an ETF that pays a $1 distribution per unit. Without reinvesting, you would receive $100 in cash. However, if you reinvest that $100, and the ETF’s price is $50 per unit, you can buy two more units. In the next distribution period, you would own 102 units and receive $102 in distributions. As this process continues, the number of units you own grows exponentially.

The power of compounding becomes even more significant over longer periods. The more units you own, the more distributions you receive, and the more you can reinvest, leading to continuous growth without additional investments.

Dollar-cost averaging

Reinvesting also helps you take advantage of market fluctuations through a technique called dollar-cost averaging. When the ETF’s price is low, your distributions buy more units at a lower cost. When the price is high, you will buy fewer units, but this strategy can help smooth out market volatility and provide a more consistent growth path.

Reinvesting ETF distributions is especially beneficial for long-term investors focused on building wealth over many years. It allows you to harness the power of compounding, where the returns on your reinvested distributions generate additional returns. This can be crucial for achieving financial goals like retirement savings or building a substantial investment portfolio.

Most ETFs and/or platforms enable investors to choose to have their distributions automatically reinvested.

^{Important Information}

^{Vanguard Investments Australia Ltd (ABN 72 072 881 086 / AFS Licence 227263) (“Vanguard”) is the issuer of the Vanguard® Australian ETFs. Vanguard ETFs will only be issued to Authorised Participants. That is, persons who have entered into an Authorised Participant Agreement with Vanguard (“Eligible Investors”). Retail investors can transact in Vanguard ETFs through Vanguard Personal Investor, a stockbroker or financial adviser on the secondary market.}

^{We have not taken your objectives, financial situation or needs into account when preparing this publication so it may not be applicable to the particular situation you are considering. You should consider your objectives, financial situation or needs, and the disclosure documents for Vanguard’s products before making any investment decision. Before you make any financial decision regarding Vanguard’s products you should seek professional advice from a suitably qualified adviser. The Target Market Determination (TMD) for Vanguard’s ETFs include a description of who the ETF is appropriate for. You can access our IDPS Guide, PDSs Prospectus and TMD at vanguard.com.au or by calling 1300 655 101.}